Does The Classic BRRRR Strategy Still Work?
Amy Hamilton Chadwick examines the tried and tested method in the face of today’s high renovation costs and challenging finance.
2 October 2023
There are a few classic strategies that investors have been using for decades to maximise their gains in the property game – and one of those is BRRRR. It stands for buy, renovate, rent, refinance and repeat.
You buy a run-down house, do a cost-effective makeover, then find tenants. If you’ve got the numbers right and with a bit of good luck, the new higher value of the house should allow you to refinance it, so you pull out a chunk of cash to use as a deposit on the next do-up. Rinse, repeat, and watch your portfolio grow.
But the current market is heavy going, with renovation costs high and refinancing often a challenge. Is this classic strategy still a good idea, or even feasible, as we head towards 2024?
Lateral thinking is needed to find a reno strategy that will suit your personal financial goals.
The Classic Do-Up
In years gone by, the BRRRR strategy would work on a standalone three-bedroom family home on a section. You’d end up with a cash flow neutral (or positive) rental and a deposit ready to spend. Not anymore, says Nick Gentle, director of iFindProperty. Achieving even neutral cash flow with a standalone single-tenancy property is a major challenge with current interest rates, lack of interest deductibility, and the higher cost of renovations compared to years past.
“There’s never a point in the cycle where you can’t make this work,” Gentle says. “It just gets easier or harder. There’s a lot less people buying a ‘vanilla’ rental property right now.”
Now you need to apply the BRRRR strategy creatively – on a block of two or three units, for instance. Or splitting a house in two, turning it into a “new build” so interest payments are once again tax deductible.
Gentle says a basic renovate-a-single-home-to-rent may still work in the lowest-cost regional markets; “I do see people heading to the boondocks. I wish them well, but a remote rental property brings its own set of issues.”
BRRRR is still possible – you just need to be more creative in the way you apply it.
It’s admittedly difficult to achieve a strong yield in the current market, but that’s not everybody’s goal, points out James Goren, director of The Renovation Team. If your goal is purely to invest for capital gain and you have an excellent salary to service the costs of negative cash flow properties, buying to renovate and rent out can still be a powerful tool to grow your wealth.
“Anyone on a million-dollar salary who’s playing with properties in the background can make a killing,” says Goren. “They can buy 10 properties before the bank starts asking questions because the yield doesn’t matter, and they can make big bucks in equity.”
At the other end of the spectrum, for those on a modest income, Goren says the “boondocks” approach can also work, but it will be slow going.
“When you’re young and don’t earn much, the only way forward is to start with super cheap properties in weak towns, maybe buying initially as a first home and living in it while you spend six months adding value. You improve that property and then hopefully refinance it.”
Those are the two extremes – for everyone else, it’s finding a workable balance somewhere in the middle. That might mean buying two, renovating both, and selling one to reduce debt. You might work with non-bank lenders during the renovation, then refinance to a bank once one property is sold. Once again, a bit of lateral thinking is required to come up with a renovation strategy that will suit your personal financial goals.
Question Of Yield
“You just need to find that balance between cash flow and equity – whether this strategy works all depends on the person, their income, and what they’re trying to achieve. I recently posted a reno on social media. The renovation cost $200,000 on a purchase of $1,000,000, which added $500,000 in equity.
“Although I got a lot of thumbs up on the added value, I also got some comments that the yield was too low, but from my point of view it was a success. It all depends on the person and the goal.”
The property interest limitation rules have had a significant impact on the feasibility of many deals and make the BRRRR strategy far less viable. If the rules change, the renovate-rent-refinance model could make a comeback.
“Everyone is holding their breath for the election,” says Jeremy Gray, head of marketing and communications at Builderscrack. “If National rolls back the interest deductibility rules, I think we’ll see a reasonably big investment into this kind of work.”
But Gentle thinks some of the damage done may be permanent: “The gorilla in the room is interest deductibility, it’s very hard with interest pushing 7 per cent to buy and renovate when you can’t deduct those loan payments. If the rules are reversed it will be easier.
“But even if that happens, the Green Party will keep banging the drum for them to be reinstated. There will be a section of people who might have bought property in the past, who won’t trust that the government won’t do this again.”
For those who can be bold, adds Goren, why not grab the opportunities in the market while everyone else waits for the election?
“It doesn’t matter who wins – you wake up the next day and you have to say, ‘let’s continue’, and buy again. Play with the numbers; take advantage of the situation.”
Buying to renovate and rent out can work for capital gain as long as your salary covers any negative cash flow costs.
The relative difficulty of borrowing remains a handbrake on homeowners and investors when it comes to renovating, says Gray. Cashed-up investors have an opportunity to capitalise while others are forced to sit on their hands and wait for interest rates to fall and banks to loosen the purse strings.
“For those who aren’t carrying a lot of debt, this is a great way to boost the capital in their portfolio. Renovations that increase the number of tenants give you a great return on investment. It’s a no-brainer if you can do the work at a predictable price, increase the rent, collect that rent forever, and get the capital gains.”
He says strategies like adding a room or rearranging a floor plan remain popular among investors, even as the number of high-value renovations has dropped over the past 12 months.
Gray says material and labour costs have now stabilised, product availability problems are all but resolved, and the industry is back to business as usual.
Despite all the headwinds, there are some strong indicators that brighter weather is ahead for property investors. Most commentators believe house prices have stopped falling and are ready to change direction, while interest rates appear to have peaked.
Forecasts are predicting house prices to rise in 2024. Migration data is strongly positive; inflation has increased salaries and wages; rents are already starting to rise.
“Rents are about to have a massive surge and it will change your numbers,” says Gentle. “Our rental supply is shrinking, and boatloads of people are coming in. So, if you’re looking at a project where the numbers look iffy, I think you can bank on rent growth over the next five years.”
Waiting for conditions to be perfect is rarely a winning investment strategy. Instead, savvy investors focus their attention on the fundamentals and let everyone else panic on the sidelines.
“I made most of my money in one market – Wellington – while everyone was looking elsewhere and there was no growth in sight. It’s hard and uncertain. Five years later, the focus turned. When the focus turns, you’re set. I don’t know what the market will look like in 10 years, but those who figure it out today? In five years they will be doing so well it will feel unfair. Do your best work while others are not paying attention.”